Stock Chartist

Commentary and recommendations about the stock market, sectors and individual stocks from a chartists perspective. Observations are based on the belief that "at their core, fundamentals are subjective but momentum is fact."

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February 21st, 2010

If you’ve been confused by the notions of practitioners of Elliot Wave then there’s no better way of clearing the air than by contrasting and comparing the concept with other modes of technical analysis … especially the sort of stock chart reading that I practice. Different approaches and different conclusions.

Take, for example, the following chart that offered by an Elliotican on another site (click on image to enlarge):

According to this writer, “what I know about Elliott Wave is that 1) it is fractal and 2) the pattern is 5-3. However, that is enough information to help me draw some interesting conclusions.[note: the writer elected to display the Index on an arithmetical scale rather than the more accurate logarithmic scale; had the chart been on a logarithmic scale, the trendlines would not have been curved and diverging rather than parallel]”

He concludes that the market, after having sliced two up and two down waves, is about to embark on the 5th wave of this move, one that he expects is heading higher. He draws two trendlines, the bottom support trendline connecting the March 6 low with the low [so far] of the current correction at 1045.

The writer goes further and generates some interesting arithmetic: both wave 1 and 3 covered an average of 285 points (each between 280-290 points in length) which, added to the 1045 low takes you to a 1330 high of this hypothical wave 5. He then proceeds to dismiss this target as interesting but instead believes, for no reason other than gut instinct, that the high will actually be 1240-1275. However, the important conclusion according to this writer is that wave 5 has already begun.

Unfortunately, I don’t necessarily see it that way. When we’re not riding in a good strong trend, we chartist spend most of our time trying to divine whether a horizontal zone of trading, and area where bulls and buyers, buyers and sellers, supply and demand are struggling for control of the next trend leg will, in the end, turn out to be a reversal or consolidation pattern:

First, the shortest distance between two points may be a straight line but it may not necessarily be a supporting trendline. Meaningful supporting trendlines are those resting on 3 or more pivot points and are closer to being horizontal than steeply sloped. The bottom line he drew, in my opinion, is no supporting trendline.

The US stock market along with those of the rest of the world have been in such a tug of war since last October. Last Friday’s S&P 500 close of 1109 is just 28 points higher than its close on September 22 of 1074. If the graph above is representative of what most Elliot Wavers believe, the chart I included in “The Market Offers Something For Everyone“. That chart, at best is a consolidation and at worst could be a head-and-shoulder reversal pattern.

The tug-of-war at the market Index level is reflected at the level of many individual stocks and ETFs, many of which have been caught in narrow trading ranges.

Rather than trying to predict the bottom and allowing our optimism mistake a top for a consolidation, I’ll wait for the market to tell me which side won. That decision will come either when the market crosses above the previous 1154 high or breaks below the neckline of the head-and-shoulder formation at 1050 on its way to the 200-DMA at 1025. When either happens, we’ll finally be able to say that the lateral movement had ended and a new tradable trend launched.

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according to 2004's play book, you are correct..hope I have chance to unload some long..maybe buy some sh & dog??

Anonymous

Guru,can you advise the average GDP growth rate during the 1970s in the USA ?What was fair value for the S&P 500 then vs now ? Thanks for any info.Great Blog here.

Dana

Do you ever use EMA's instead of DMA's? Thoughts on the use of the exponential moving averages vs daily? Thanks very much.

Joe

"fair value for S&P 500" … tough question. I'm not sure that there is anything like that. If you still hold any doubts that market prices have little connection with underlying fundamentals all you need do is look at this chart of the p/e ratio of the Index over past 100+ years (presented by Robert Shiller).

If fundamentals drove prices then the p/e would be relatively stable; in fact, it careens all over the place (click here.

Joe

EMA (exponential) vs. SMA (simple). I explained why I prefer SMA in a comment on February 4, as follows:

"Of course I know difference but found that SMA serves my purposes better (and that's what are on the charts I post here). SMA works better because I use 4 moving averages and if I used EMA (exponential moving averages) then they wouldn't be as discrete in the near-term …. they'd all bunch together in the near periods. Plus I'd have to decide on different averaging factors for each of the four (50, 100, 200 and 300 day)."

2win

Sounds like you've cashed out until the trend becomes clear, is that right? Waiting to either buy long equities above SP500 1154 or inverse short equities (such as inverse ETFs) below SP500 1050. If so, isn't this a recipe for buying high, selling low?Dave

Joe

Dave, it's a prescription for "buying high and selling higher" rather than "buying low and selling lower".

Jesse

stopping by to catch up on your blog. I find it interesting that you came up with this particular EW chart to use as your example. iread lots of EW on a daily basis and I've never seen any EW guy chart it this way. Most of the EW people out there are looking for confirmation of wave ii right now signaling that P3 down has started. So it's an interesting blog, but a very bad example of EW.

Joe

Jesse, welcome back, we missed you. As up can tell, I know little about EW so your statement that most Ellioticians are looking for a "confirmation of wave ii right now signaling that P3 down has started" is like trying to explain the Theory of Relativity.

But stay a while. Many readers here would probably like to read more about what EW has to say that could help them navigate the market.

Jesse

Joe, the other interesting thing is that as much as I've read that you would like to put the EW theory to bed, most EW people would agree with you that it looks more like a head and shoulders pattern going on. If that plays out EW would also agree with what you've come up with that we could go down to the 200 dma, before bouncing back up. P2 would be the top (1150 or whatever it may end up being before we start a new trend down). P3 will be the next major bottom. Of course there are different opinions, but most EW guys believe P3 takes us to a lower low than 666. Its the Grand Cycle. refer to this example for the Primary Cycle I'm talking about – http://2.bp.blogspot.com/_OpWmYZm7O8I/SpbUGdj0-9I/AAAAAAAAAK4/gBXWIlGFIsE/s1600-h/00binve-001-13-spec-longest.pngunderstand this chart shows straight lines which represents overall moves and does not take in to consideration all the ups and downs in between.

Anonymous

Hi Jesse,

The link you've provided is of a very interesting chart. Could you pls provide link to that blog which has put this chart?